Aberforth Smaller Companies 01 December 2023
This is a non-independent marketing communication commissioned by Aberforth Partners LLP. The report has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is not subject to any prohibition on the dealing ahead of the dissemination of investment research.
Aberforth Smaller Companies (ASL) owns a portfolio of companies from the bottom 10% of the UK market-cap spectrum. It is run by a management team of seven who have a well-disciplined process that is based around a bottom-up stock-selection approach with a value focus, which leads to a Portfolio that is highly differentiated from the benchmark and the peer group.
The differentiation has led to strong relative performance over the near term, driven primarily by the managers’ stock selection and supported by the tailwind of the value investing style. The trust has more than doubled the sector average return over the past three years. Despite this, the managers believe valuations remain very compelling, with what they describe as a quadruple discount (see Performance). This opportunity is increasingly being recognised by some investors, with M&A continuing to be an important factor in markets. The managers continue to engage with their holdings to ensure they get the best possible outcome for shareholders.
Despite the strong performance, the trust has slipped to a wide Discount, along with much of the peer group. The managers have been active in taking advantage of the wide discount by continuing to buy back shares for cancellation.
Whilst not the primary goal for the trust, the managers have delivered another period of Dividend growth that has kept up with inflation, despite the challenging target. The dividend is also supported by strong revenue reserves, meaning the growth should arguably continue. At 3.1%, based on ordinary dividends, the yield is now substantial and another potential indicator of the attractive valuations.
The performance of ASL has been excellent over the past three years. In this period, the managers’ investment style has become more in favour, which has been a tailwind and has led to strong medium-term outperformance versus both the benchmark and peer group. We believe there is a strong argument that this new era for value investing can continue as higher interest rates persist. Despite this encouraging outlook, valuations look particularly compelling at present, especially so in ASL’s portfolio in our opinion. This is beginning to be recognised but could still offer an attractive entry point for long-term investors (see Performance).
The pickup in M&A is one sign of this value being recognised and we believe the trust is well placed to capture this, due to the value strategy. The majority of the corporate activity has occurred in companies on lower valuations, and ASL’s average company is on a lower multiple still. This, in our opinion, demonstrates strong upside potential in the portfolio, bolstered by the managers’ history of rejecting bids they don’t believe reflect the true value of their holdings (see Portfolio).
We believe the opportunity is amplified by the current Discount on the trust. Despite being one of the top performers in the peer group, the discount has widened out as sentiment has hit the whole sector. This could offer investors an opportunity to capture the considerable value on offer at a very compelling discount.
- Valuation focus has benefitted from a higher interest rate environment
- Trust trades at a wide discount to NAV
- Trust has delivered inflation-beating dividend growth
- Overweight position in cyclical industries could be exposed in an economic downturn
- Small-cap focus could increase sensitivity if market falters
- Gearing has increased and can amplify losses as well as bolster returns